Does climate insurance work as a catalyst for climate risk management and sustainable development? Or is insurance deflecting attention from other disaster risk management solutions? Swenja Surminski, Senior Research Fellow at the London School for Economics, argues there is no simple answer.
Risks are rising and there is low usage of insurance
The devastating impacts of natural disasters are seen across the world, causing loss of life, destruction of homes, businesses, and the disruption to communities and commerce. The damage caused by disasters is increasingly driven by a variety of factors which increase the number of people living in coastal areas and flood plains. This leads to the degradation or loss of natural ecosystems.
In the 1980s the economic losses caused by such disasters was around $50 billion per year globally. Now that figure is $150-200 billion. Last year the figure was $175 billion – only $50 billion of which was insured, according to Munich Re. We call this divide between insured losses and uninsured losses the ‘protection gap’.
The problem of uninsured losses is that it falls disproportionately on developing and emerging countries as insurance is expensive. Between 1980 and 2016 these countries accounted for 10% of global uninsured losses, but just 1% of insured losses.
Insurance can help reduce the impacts of natural disasters and build resilience
Experience from developed countries shows that insurance can play a cost-effective role in a country’s efforts to increase its disaster resilience.Disaster insurance instruments, such as micro / sovereign insurance mechanisms and risk pools, help to manage the risks of disasters.
Immediate insurance pay-outs mean recovery and rebuilding can begin rapidly after a disaster without waiting for government to reallocate funds. This implies that closing the protection gap could be an important element in a climate risk management strategy.
Experience from developed countries shows that insurance can play a cost-effective role in a country’s efforts to increase its disaster resilience. This has spurred efforts to test insurance across developing countries, with a range of new schemes being piloted and international support money being pledged to increase the use of insurance, such as the G7 InsuResilience initiative.
But does insurance really increase climate resilience of the most vulnerable people?
While disaster insurance offers many opportunities, it is far from clear how insurance schemes improve climate risk management and support climate resilient development. There is uncertainty about how to monitor and evaluate resilience-building and there are few rigorously designed studies to examine the impact that these insurance schemes have. A recent study for the Climate Investment Fund warned that climate insurance could also have unwanted consequences and may not benefit the poor nor foster climate resilience. Poorly designed or implemented climate insurance may reduce incentives for risk reduction. This would increase moral hazards and potentially lower resilience through a false sense of security.
This is a key area of concern. Several of the development-aid funded schemes such as sovereign risk pools have to conduct evaluations, but results will take time and are in some cases not publicly available, creating a lack of trust.
In a new project, funded by IGA/Rockefeller, we plan to address this measurement gap. This work will build upon the expertise of existing resilience frameworks from the Food and Agriculture Organisation (FAO) and Food Security Information Network (FSIN) groups.
The protection gap should not distract from the resilience gap
Insurance is an important tool in managing the impact of disasters. However, prevention and preparedness measures are the most effective ways to reduce fatalities and limit damage from disasters.
To create longer term solutions we need to focus on closing the ‘resilience gap’ between developed and developing countries, while addressing the underlying causes of loss and damage.
Insurance as a risk transfer instrument can play a role. However, there is far bigger potential for bringing in the industry’s risk knowledge and expertise Donors, insurers and NGOs have an opportunity to shape this by embedding climate resilience within their sustainable development agendas.
To create longer term solutions we need to focus on closing the ‘resilience gap’
What about fairness?
Finally, there are equity and fairness dimensions to all of this. Is it fair that those least responsible and least able to pay the premiums should take responsibility for the risk?
Subsidies can help to avoid shifting the burden to those most vulnerable, but this also means that insurance may not offer value for money due to high transaction and capital costs. This suggests that international funds might be better spent on other types of safety nets, rather than buying insurance cover from international insurance markets.
It is also important to consider how any insurance mechanism will cope with changing risks levels. The intensity and frequency of climate extremes is increasing and the cost of insurance is rising, which will put pressure on subsidies and other support measures.
Above all it is important to recognize that there is a moral case beyond the economic considerations. For many parts of the world loss and damage is not a distant threat but a current reality. The political complexities and technical challenges of climate attribution should not distract from this.
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